Real Estate: An Alternative Investment, Delhi

Contributed by: Manan Agrawal, CFA, IAIP volunteer

On August 3^rd 2013, the Delhi chapter of IAIP organized a Speaker Event on Real Estate – An Alternative Investment – wherein Kuldip Chawlla, Co-Founder & Managing Principal, Saamag Capital Advisors LLP presented trends and statistics on real estate investments in India. He discussed importance of real estate as an asset class, factors driving valuation of real estate, REITs, the future of real estate industry in India, outlook for real estate funds, real estate prices in the Delhi NCR and new opportunities opened up by the Delhi Master Plan 2021. The event was well attended by both IAIP members and non-members.

Kuldip started by describing the historical returns from real estate in India over long periods of time from 1980s onwards. He compared these with the returns from Indian stock market. In the past, Real estate as an asset class offered higher or comparable returns in many periods.  Real estate returns beat inflation in every period by a significant margin.

The return from any Real estate property has two components – Rental yield and Capital Appreciation. The value of these components differs for different classes of real estate. The different classes of real estate being: Agricultural, Commercial (Hotels, Malls, Office buildings, Recreation centres, Warehouses etc.), and Residential – Group Co-operative societies, Private Developer colonies, Farmhouses. For example, the rental yield in Commercial properties is higher than the rental yield in Residential properties.

Kuldip stressed the importance of location in Real Estate. From a risk standpoint, apart from a few general factors, each individual Real estate property has its own unique and specific risks – legal and regulatory – which need to be assessed individually.

The value of real estate is driven by demand and supply just like the value of any other commodity.  The total amount of land on earth is fixed. So, real estate has an upper limit on supply. In India, and in Delhi NCR, actually, there is no shortage of land. The supply of land looks short because of arcane old land zoning rules of the Indian government. From a valuation point, location is the most important in real estate. Also, one can find comparable properties much more easily in Real estate than finding comparable companies while trying to value stocks.  Land prices have been rising at a very rapid rate in Delhi NCR (doubling almost every 3-5 years). For any real estate building in India, land cost constitutes 40% – 80% of the Final cost per square foot.

Real estate market in India is a brokered market and has high degree of market inefficiency. Added to that is the challenge of dealing with asymmetric information.  Because of the brokered market and the unabated lending by PSU banks to private developers in India, property prices cannot be expected to fall. Prices should hold or increase.

In Delhi NCR, the Delhi Master Plan 2021 of the DDA (Delhi Development Authority) has opened up lucrative opportunities to invest in land in the various zones on the periphery of Delhi. Some zones are better positioned for higher capital appreciation. The population density in Delhi NCR differs very significantly from very low in some zones to very high in another zones.  Added to that, some zones have at least some infrastructure (water, drainage, sewerage, electricity, healthcare centre, schools) already in place whereas other zones lack all that. Based on these and other factors, Kuldip discussed which zones looked attractive to him and which zones didn’t. The new 1 acre country homes concept has already been influencing land prices in the low density green belt zones. From 2011 prices, land prices in these zones have quadrupled.

Real estate funds have been operational in India from a long time now. These funds invest in land, and builder projects targeting IRRs of 30% + p.a. Builders have been raising capital also via REITs listed in Singapore and Hong Kong. One can invest in Real Estate via REITs in foreign countries. However, REITs do not exist in India yet. Also, there is no benchmark for real estate industry in India.

Real estate has traditionally been a favorite of Indian investors, and despite the price appreciation that has happened so far in the metros, because of continuous migration of population to metros and rising income levels in Tier 2 and Tier 3 cities, Real estate is still expected to deliver attractive inflation beating returns going forward. One needs to identify the potential quite early in the real estate development lifecycle, and assess risks unique and specific to that particular piece of real estate investment being considered.